TAX NEWS - June 2010

Tax haven that turned into a $7m hell for 100

John and Marie Wright lost $180,000 in the scheme and face a $60,000 tax bill. If they are not granted tax concessions they will lose their house.

Investors in a failed tax deduction scheme were told it had approval while the Tax Office secretly investigated it, writes Geesche Jacobsen.

They were investing in companies called Goldmining, Soccer, Volleyball, Wrestling or China Pty Ltd. While to some the scheme - earning tax deductions by borrowing to invest in these companies - seemed too good to be true, most checked and found the companies were registered and were told the scheme was approved by the Australian Taxation Office.

But it seems the Tax Office had been secretly investigating the round-robin scheme, which went bad a year ago, since at least 2008 - without warning those who had put money into it.

Last July Erin Watson - a mortgage broker and director of Home Mortgage Australia Pty Ltd, which ran the scheme - informed investors she was closing the business. The Tax Office took five more months to warn taxpayers.

About 100 investors from the Hunter, Sydney, Canberra and Wollongong lost at least $7 million among them. Most had joined the scheme between 2005 and 2007. The problem was the companies in which they were investing were shelf companies that did not generate income, as required to gain tax deductions.

The shelf companies were controlled by Ms Watson, who also had powers of attorney for the investors' mortgage accounts, and arranged for their tax returns.

It also appears the investors' money was not put to the use they intended. At a recent court hearing Ms Watson confirmed some of it had gone overseas.

"We've been caught [out along] with solicitors, doctors and lawyers," says a former banker, Peter Stewart, who says he lost almost $317,000.

He refinanced his existing loans after learning of the company on the internet, and borrowed more to invest - similar to negative gearing schemes.

He found the explanations satisfactory, and a relative who worked for a bank also thought the scheme looked OK.

The Tax Office now seems focused on recouping the tax deductions it says should never have been claimed.

So not only have investors lost their money, but they are being asked to repay the tax, plus penalties and interest, even though they never benefited from the tax deductions.

"The authorities could be a bit more harsh with her. The tax department is blaming us, not her," says Marie Wright who has lost $180,000 and is facing a $60,000 tax bill for the three years in the scheme. If the Tax Office does not grant her and her husband any concessions, they will have to sell the Bossley Park home they have lived in for 30 years and leave Sydney, she says.

"It's not a thing we want to do, but it's something we probably have to do."

Mrs Wright, who became a shareholder in Squash Pty Ltd, says the banks which organised the loans and held the investors' and companies' accounts operated by Ms Watson - Challenger and ANZ - should have questioned the activities.

"[Ms Watson] had control of a lot of accounts," she said. "Surely, alarm bells must have been ringing somewhere."

On December 22, the Tax Office finally issued an alert "warning people about sham arrangements promoted as 'mortgage management plans' which promise to help home owners repay their home loan sooner and claim tax deductions to which they are not entitled".

It said that under the scheme participants refinanced their homes and took out an additional "investment loan" to purchase shares in "bogus" companies.

A spokesman said it could not comment on individuals' affairs, but referred the Herald to the December taxpayer alert, and said the Tax Office was continuing to investigate such schemes.

When Ms Watson wrote to investors last July to inform them she was closing the business, she blamed the Tax Office for targeting the scheme as "a threat to federal income". She said she had been dealing with the Tax Office for a year - but had never told the investors.

"The ATO has held up the refund and I am powerless. The ATO is, in fact, wrong but I don't have the ability to fight the ATO."

She explained the investors' equity "was spent in servicing the loan interest to create the deductions".

"You have received tax rebates and dividends; just like any start-up business, the money spent is more than the money received," she wrote.

Several days later, a former employee emailed investors and urged them to seek legal advice. She said their mortgages had not been paid for the past month and the Tax Office had rejected their applications, known as section 15-15, to have their tax varied.

The Australian Securities and Investments Commission (ASIC) has also been investigating Home Mortgages Australia since September and has received about 100 complaints.

Neither the Tax Office nor ASIC would confirm when they first knew of the scheme or what action they will take.